(2016) A Level H2 Econs Paper 2 Essay Q4

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4. “The overall Singapore government budget for Fiscal Year 2013 is estimated to have recorded a surplus of S$3.9 billion (1.0% of GDP).”
Source: Recent Economic Developments in Singapore, 6 June 2014, Monetary Authority of Singapore

Assess the likely impact of the budget surplus on the Singapore economy, both domestically and internationally. [25]

What is a budget surplus

• Government revenues exceed government expenditure in a fiscal year

Likely causes of a budget surplus

1. Stronger than expected economic performance

2. Prudent fiscal policy

Likely impacts of the budget surplus on the Singapore economy, domestically

Increased ability to spend

1. The Singapore government accounts for budget surpluses and deficits within its 5-year government term. This means that shortfalls in budget; budget deficit can be made up within the term itself, i.e. if the government incurs a budget deficit this year, it can make up for the shortfall by ensuring that there is a budget surplus the following year to cover the shortfall. Vice versa, if the government incurs a budget surplus this year, within the same government term, the government can choose to spend part of such a budget surplus in the upcoming fiscal year.

2. An increase in G -> increase AD -> increase real NY -> higher economic growth

3. Firms hire more factor inputs -> lower cyclical unemployment

4. Singapore’s fiscal policy is targeted at improving the supply-side potential of the economy e.g. on transport infrastructure -> this can potentially bring about an increase in the productive capacity of the economy -> rightward shift in LRAS

Increased reserves

1. If the government chooses not to spend any budget surplus in the following year, the resulting ‘surplus’ therefore goes into the reserves

2. GIC invests the reserves and provide a return on investment.

3. The long-term returns are annualised and termed ‘Net Investment Return Contributions’, with 50% of the NIRC re-invested and the other 50% is added back into the government’s budget to allow for increased government spending.

4. An increase in reserves, assuming rate of returns remain unchanged, would likely mean the NIRC will increase, giving rise to an increased ability of the government to spend.

5. This allows the government to increase its long-term spending (effects similar to what is already explained above)

Reduces likelihood of ‘crowding-out’ & inflation

1. A budget surplus is likely an outcome of a cautious and prudent approach to fiscal policy

2. This means that any increase in Government expenditure (G) would likely have been controlled and spending is only on what is necessary and would unlikely have been excessive

3. Firstly, such a budget surplus would mean that the government does not resort to borrowing to finance its fiscal spending and this prevents the situation of:

   • crowding-out, which occurs when governments increase demand for loanable funds which causes interest rates to rise, causing investments to fall as a result of the higher interest rates.

   • The government becoming too large a player in specific industries where the significant increase in government spending in the sector, may result in the state becoming too ‘big’ and this reduces private investments as investors do not want to compete against the ‘large government player’

4. A small increase in G will also have less likelihood of causing a significant increase in AD à less likelihood of causing demand pull inflation, which is important, given that Singapore is already operating at near full employment

Likely impacts of the budget surplus on the Singapore economy, internationally

Strong credit rating

1. Frequent budget surpluses builds up reserves, which means the government has a buffer to fall back on, given any sudden shocks in the economy such as a global recession

2. This means there is less tendency for the Singapore government to borrow to finance any potential deficit spending since the government can just simply draw-down on the reserves (with the permission of the President – the custodian of the country’s reserves)

3. International ratings agencies will likely look at Singapore’s credit rating favourably and this will have a positive impact on investors’ sentiments

4. Investors are less likely to be attracted to Singapore to invest given such favourable credit ratings

5. Increase in I -> increase AD -> higher real national income -> higher economic growth

6. Increase in I -> increase AS -> increase potential growth

7. Increase in FDI -> inflow in capital & financial account -> improves BOP

Domestic impacts > international

• It would have likely been the case that the domestic impacts are greater than the impacts from the international economy.

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